Strategic Investment and Industry Risk Dynamics

Abstract

This paper characterizes how firms' strategic interaction in product markets affects the industry dynamics of investment and expected returns. In imperfectly competitive industries, a firm's exposure to systematic risk is jointly affected by its own investment strategy and the investment strategies of its industry peers, such that the dynamics of its expected returns depend on the intra-industry value spread. In the model and the data, firms' betas and returns correlate more positively in industries with low value spread, low dispersion in operating mark-ups, and low concentration.

Keywords: expected returns, investment, imperfect competition, strategic interaction, industry concentration

JEL Classification: L11, L22, G11, G12, G31